Too Big Too Fail - Ferguson Doesn't Think So

Niall Ferguson, one of my favorite thinkers and writers, has a magnificent article in Newsweek entitled Wall Street's New Gilded Age.

Please read the entire piece. I think Ferguson's hits on some amazingly important facts and figues about our current financial system. Key excerpts below:

But now, barely a year after one of the worst crises in all financial history, we seem to have returned to the Gilded Age of the late 19th century—the last time bankers came close to ruling America. A few Wall Street giants, led by none other than -JPMorgan, are back to making serious money and paying million-dollar bonuses. Meanwhile, every month, hundreds of thousands of ordinary Americans face foreclosure or unemployment because of a crisis caused by … a few Wall Street giants. And what makes the losers in this crisis really mad is the fact that there's now one law for the small debtors and another for big ones. If you lose your job and fall behind on your $1,500 monthly mortgage payment, no one's going to bail you out. But Citigroup can lose $27.7 billion (as it did last year) and count on the federal government to hand it $45 billion.

.....In April this officially became the longest recession since World War II. The International Monetary Fund expects the U.S. economy to shrink by 2.6 percent this year. The unemployment rate is heading for 10 percent. With numbers like that, you'd think some radical reform was in order. But no. Despite much talk on both sides of the Atlantic of new financial regulation, the likelihood is that the most important flaw in our financial system will not be addressed. On the contrary, the emergency measures taken a year ago have made it significantly worse. That flaw can be summed up in a single phrase: banks that are "too big to fail." Let's call them the TBTFs.

Between 1990 and 2008, according to Wall Street veteran Henry Kaufman, the share of financial assets held by the 10 largest U.S. financial institutions rose from 10 percent to 50 percent, even as the number of banks fell from more than 15,000 to about 8,000. By the end of 2007, 15 institutions with combined shareholder equity of $857 billion had total assets of $13.6 trillion and off-balance-sheet commitments of $5.8 trillion—a total leverage ratio of 23 to 1. They also had underwritten derivatives with a gross notional value of $216 trillion. These firms had once been Wall Street's "bulge bracket," the companies that led underwriting syndicates. Now they did more than bulge. These institutions had become so big that the failure of just one of them would pose a systemic risk.

....The compensation issue, by the way, is a red herring. Politicians like to focus on bankers' bonuses, because everyone can be shocked by the fact that Lloyd Blankfein, the Goldman CEO, gets paid 2,000 times what Joe the Plumber gets. But that's a symptom, not a cause, of the deep-rooted problem. The TBTFs are able to pay crazy money because they reap all the rewards of risk-taking without the cost: the risk of going bust. Ask yourself, how did Goldman make those handsome second--quarter profits of $3.4 billion? Yes, by leveraging up and taking on more risk.

.....What's needed is a serious application of antitrust law to the financial-services sector and a speedy end to institutions that are "too big to fail." In particular, the government needs to clarify that federal insurance applies only to bank deposits and that bank bondholders will no longer protected, as they have been in this crisis. In other words, when a bank goes bankrupt, the creditors should take the hit, not the taxpayers.